Forex trading has a huge potential to make money if done the right way. As a trader, you need to actively participate in decision-making, and for that, you need to learn all the important terms in the forex trading glossary. If you are not aware of the fundamentals, then you may lose a lot of money.
Pips
‘Pip’ has the most important place in the forex trading glossary. ‘Pip’ stands for ‘percentage in point’ or ‘price interest point’, which represents the standard unit of measuring the currency pairs. One pip is equivalent to one-hundredth of a percentage for the majority of the currency pairs. Exceptions include Japanese Yen pairs that have a 0.01 pip value. ‘Pipette’ is one-tenth of a pip, and so is the smallest price move in forex. It is used for more precise calculations. Finding pips is very simple. For example, if the EUR/USD pair moves from 1.1000 to 1.1010, then the pip value is 10.
A pip in most currency pairs has a fourth decimal place, like ‘from 1.1051 to 1.1052’ is a one-pip up. However, in USD/JPY, it is the second decimal place, like ‘from 110.51 to 110.52’ is 1 pip. Let’s say your currency pair is EUR/USD, lot size of 100,000 units, exchange rate is 1.232. The pip’s value is found by applying the following formula:
A pip’s value = position size X (0.0001/exchange rate)
In this case, the pip’s value = (0.0001 / 1.2325) x 100,000 = $8.11.
Thus, your profit or loss will be $8.11 for every one-pip movement for the EUR/USD pair.
Besides calculating your profit and loss amount, pips let you handle risks efficiently as well. If you know the pip value of your trade, you can minimise your loss by making important decisions.
Lot Sizes
Lot size is the number of currency units that is traded. You need to choose the lot size cautiously to reduce risk. The lot size comes in four categories:
Standard lot: 100,000 units with a pip value $10.
Mini lot: 10,000 units with pip value $1.
Micro lot: 10,000 units with pip value $1.
Nano lot: 1,000 units with pip value $0.01.
A larger lot size will increase your gains and losses. On the other hand, a smaller lot size will give lower profit but better control. As a smart trader, you must choose a lot size depending on the profit probability and risk tolerance.
Leverage
You will find ‘leverage’ in the forex trading glossary often. It lets you trade even when you don’t have money. A forex broker will offer you this benefit. It is a capital that you can borrow from a broker for investment in the hope of making more money to get better returns. Here is how it works. For example, if you want to trade one standard lot, then you must deposit 100,000 euros. But if you have a leverage of 100:1, then you only need to pay 1000 euros for the same lot size, and your broker will pay the rest. That is, you only need to pay 1% of your order size.
Leverage lets you invest a larger amount even if you have small capital, thus increasing your buying power. However, you must not forget that high leverage will pose a greater risk. Therefore, you should have a thoughtful approach to using leverage for your forex trading.
Conclusion
Understanding the trading terms ‘pips’, ‘lots’, and leverage in the forex trading glossary is vital for any new forex trader. If you can fully grasp the concepts, you can make better trade decisions. Even if you are an experienced trader, you must master these concepts so that you can minimise the risk.
